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Watching the Forecast: Ag interest rates may soon rise

If you are an agribusiness leader, you have many variables to consider in today’s market. Weather patterns spanning across the too wet/too dry continuum continue to baffle producers. Grain and commodity prices have started to gain strength, and both are up from recent levels but are still below the highs of the past several years. And land prices continue to hold‡ (for now) at historically high levels in many areas of the country.

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These factors are all important, but there is one other variable that may be the most important when planning for your financial future: interest rates. With historically low rates currently being offered for operating lines of credit, as well as some floating rate‡ term debt financing that has been put in place during the last four to five years, it’s important to remember that interest rates can change as fast and dramatically as corn prices.

As the American economy improves and the Federal Reserve Bank‡ looks at beginning to ease its securities purchasing‡, the stage is set for a return to “normal” interest scenarios during the next couple of years. As that happens, producers with large floating rate exposure can expect to see their interest expense double or even triple during that same time frame. The range between fixed‡ and floating rates will also expand, returning to levels similar to those before the financial crisis. When that happens, borrowers with only floating rates will be at the mercy of the financial markets in terms of controlling their interest expense.

Reviewing your balance sheets and future cash flows now – with an eye toward the next several years – can both produce large potential interest expense savings and protect against possible loan repayment challenges. As you look ahead, here are four steps to better financial planning:

Review your current debt and forecast projected debt levels for the next four years. Include your amounts, repayments required, current rates, and most importantly, whether your rates are fixed or floating.

Optimize how you use your fixed assets (land or equipment) for securing the minimum level of total debt anticipated each year. This should be done regardless of whether it is presently for revolving‡/working capital‡ lines or fixed assets.

Determine your available cash flow for debt service‡ during the next four years.

Structure new fixed-rate debt now by using a conservative debt service coverage ratio‡ (1.3 to 1 or greater).

By fixing rates now, with proper use of fixed assets as collateral, and carefully forecasting future operational cash flows, you can effectively lock in today’s historically low rates, save tens of thousands of dollars or more in interest expense, and be far better prepared to manage other variables that may come into play.

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Mr. Watson serves as president of the UMB Agribusiness Division. He joined UMB in August of 2005 and has also served as the president of the UMB Kansas region. Watson is a graduate of Wabash College in Crawfordsville, Indiana with a major in Psychology. He has also attended The Colorado School of Banking, The National Commercial Lending School (where he has also been an instructor), and the Stonier Graduate School of Banking.

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